The Federal Reserve cut interest rates for the first time in four years on Wednesday. The move is aimed at stimulating economic activity and potentially boosting the stock market.
Via The NY Times, Claudia Sahm on the Sahm Rule and the Federal Reserve’s 50 basis point rate cut.#economy #markets #federalreserve @nytimes pic.twitter.com/4NmSPyoijQ
— Mohamed A. El-Erian (@elerianm) September 22, 2024
Analysts suggest that the combination of a healthy economy and the Fed’s recent easing measures could lead to significant market returns.
Last two times Fed started with a 50bps rate cut, 3m10y Treasury yield spread was either already in positive territory or in process of uninverting … this time, spread remains deeply negative pic.twitter.com/lzcXFNq0YL
— Liz Ann Sonders (@LizAnnSonders) September 23, 2024
“The Fed is easing and it’s a healthy economy,” said Jeffrey Schulze, head of economic and market strategy at ClearBridge Investments. “That’s a potent combination for market returns.”
#OnETNOW | How will U.S. economic data and a Fed rate cut impact global markets? Hear Mitul Kotecha’s insights on gold’s rise, oil prices, and investment flows into emerging markets!@BarclaysCIB @avannedubash @nikunjdalmia https://t.co/kJZZaLCxOY
— ET NOW (@ETNOWlive) September 23, 2024
The Fed lowered its key short-term interest rate by half a percentage point and projected additional cuts totaling 2.25 percentage points by the end of next year, and 2.75 points by 2026. This would bring the benchmark rate down from about 5.4% to 2.9%.
History shows mixed results for stock markets following significant rate cuts. According to Ryan Detrick, chief market strategist at Carson Group, the S&P 500 index has fallen an average of 11.6% in the year following the Fed’s initial rate cuts during economic downturns. In contrast, when rates are reduced to normalize after hikes, the S&P 500 has risen an average of 13.2% over the following 12 months.
The Fed began raising interest rates in 2022 to curb inflation, which had reached a 40-year high of 9.1% by mid-2022. With inflation now under 3% and close to the Fed’s 2% target, officials see it as an appropriate time to decrease rates. Fed Chair Jerome Powell acknowledged the slowdown in job growth but emphasized that the broader economy remains solid.
Fed’s rate cut and market outlook
“The U.S. economy is in good shape,” Powell reassured. “It’s growing at a solid pace, inflation is coming down, and the labor market is strong.
We want to keep it that way by shaving rates before they hamstring economic growth.”
Despite the rate cut, the S&P 500 saw a slight decline, largely due to investor concerns about the weakening job market and economy. However, a recent drop in jobless claims, indicating fewer layoffs, has bolstered confidence in the economy’s resilience. While the unemployment rate has increased from 3.7% to 4.2% this year, it remains historically low.
The economy grew at an annual rate of 3% in the April-June period, with similar growth expected in the current quarter. Strong gains in U.S. productivity suggest continued robust economic expansion, with analysts expecting corporate earnings to grow by approximately 10.2% this year. Despite high stock market valuations, Detrick notes that robust economic and corporate earnings can sustain further market gains.
Historical data supports this view, showing that the S&P 500 has often posted substantial increases following rate cuts, even when stock valuations were high. However, some experts remain cautious. David Rosenberg, president of Rosenberg Research, cited weaknesses in various economic sectors and predicted a downturn that could increase risks for stocks while making bonds more attractive.
As the Fed navigates these complex dynamics, the economic outlook remains uncertain, underscoring the importance of prudent investment strategies amid potential volatility.
